Quality Still Matters For This ETF

Since the decline in U.S. equities started in early October, two investment factors have been receiving plenty of attention: 1) Growth because it has been names like the FAANG quintet leading markets lower and 2) value because some investors believe the growth's demise will benefit less volatile value names.

Some market observers argue the quality factor, accessible via exchange traded funds such as the iShares Edge MSCI USA Quality Factor ETF QUAL, merits more consideration in the current environment.

What Happened

The quality factor is showing its mettle this year. QUAL is down less than a percent year-to-date while the S&P 500 is lower by 1.33 percent, underscoring some of the advantages of thinking beyond growth and value.

“The issue with the binary choice between Value and Growth is that in the most general sense, both are foundationally risk-on approaches,” said BlackRock in a recent note. “It is no secret that the Value factor typically does well post-recession when the economy is recovering, while Growth tends to perform well during the expansion phase.”

Why It's Important

Growth stocks are struggling, but value may not be the best alternative. Due in part to large weights to the scuffling energy and financial services sectors, traditional value benchmarks and ETFs are slumping as well. QUAL allocates less than 19 percent of its combined sector weight to those two sectors.

“Quality companies generally exhibit more profitability, less leverage and stable earnings relative to their peers, making them more resilient when earnings may have peaked or an economic cycle is maturing,” said BlackRock.

QUAL also offers utility as an alternative for low volatility strategies. The ETF's three-year standard deviation of 9.20 percent is slightly below that of the S&P 500's standard deviation.

What's Next

Historical data indicate the quality factor often performs well when economic cycles start slowing and during periods of contraction.

“For investors looking to make a change in reaction to deteriorating market and economic dynamics, Quality may offer an opportunity to build more resilience into portfolios,” said BlackRock.

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